A Guide to Set-Aside Contract Transfers in GovTech M&A

Set-aside contracts are contracts from the U.S. federal government that are “set aside” for certain types of businesses. The federal government currently designates 23% of contracts for small businesses, as well as other percentages for businesses owned by women, service-disabled veterans, and individuals who are socially and economically disadvantaged.

With the post-pandemic economy expected to heat up, many GovTech firms are looking to snap up other companies in a savvy M&A transaction. But what happens to the set-aside contracts owned by the smaller business when it’s merged into a larger entity?

That’s where set-aside contract transfers come in. The first post in this series discussed what set-aside contracts are, as well as their potential impact on M&A deals. We’ll continue the series by discussing how set-aside contracts are transferred, and what obligations businesses have for transferring set-aside contracts.


How (and Why) Are Set-Aside Contracts Transferred?

When two companies join forces in an M&A transaction, both parties’ assets and liabilities are typically consolidated under a single entity, while one or both of the original companies may cease to exist. This puts the status of any existing contracts in jeopardy, since the company that was originally awarded the contract might no longer be a legal entity.

For this reason, M&A deals usually involve the transfer of any contracts owned by the seller and/or buyer, including set-aside contracts. According to an article by the law firm Clark Wilson LLP: “The general rule is that contracts are freely assignable and can be transferred from one party to another.” In general, set-aside contracts are transferred in the same way, and at the same time, that other contracts are transferred during an M&A deal.


What Are the Reporting Obligations for Set-Aside Contract Transfers?

Set-aside contracts are of concern not just for the buyer and seller in an M&A transaction, but also for the U.S. government agency that awarded the contract. This is because the status of the new entity as a small business (or as woman-owned, veteran-owned, etc.) will affect the agency’s ability to count the contract toward its set-aside contract goals. Even if an M&A deal doesn’t impact the merged entity’s eligibility for set-aside contracts, you still have reporting obligations under the Federal Acquisition Regulation (FAR).

According to an article by the law firm Smith Anderson, FAR Clause 52.219-28 stipulates that after a set-aside contract is transferred (e.g., during an M&A transaction), contractors must “re-represent” their size status by notifying the contracting officer in writing. Specifically, within 30 days of the deal’s conclusion, the contractor should validate or update its data in the U.S. government’s System for Award Management (SAM) website.


Special Rules for 8(a) Businesses

Note that special rules apply to participants in the U.S. Small Business Administration’s 8(a) business development program for small disadvantaged businesses. This is because 8(a) contracts are actually subcontracts to the SBA, and in general must be performed by the company that originally won the contract. In particular, the 8(a) contractor must immediately notify the SBA upon “entering an agreement (either oral or in writing)” that transfers the contractor’s ownership interest to another party.


What Is the Anti-Assignment Act?

The “Anti-Assignment Act” (41 U.S.C. § 6305) generally prohibits the transfer of contracts from one federal contractor to another. Of course, the U.S. federal government also recognizes that companies with federal contracts engage in M&A transactions or other activities that may require contracts to be transferred.

In these situations, the U.S. government recommends what is known as a novation agreement. Novation agreements are documents signed by three parties: the federal government, the original contract holder, and the new party proposing to acquire the contract. The new contract holder agrees to assume all of the obligations, liabilities, and claims owned by the previous contract holder.

Assuming that an M&A deal does not affect the competency or responsibility of the small business, the transaction will likely not impact future orders under that contract. In addition, if the small business had pending bids or proposals for set-aside contracts, these proposals can be transferred to the buyer without violating the Anti-Assignment Act — as long as the merged entity contains essentially the same personnel and resources as the original small business.


Final Thoughts

Set-aside contracts are generally transferred alongside other contracts during an M&A transaction, preserving the continuity of the agreement. However, the merged entity may not be eligible for future set-aside contracts from U.S. government agencies, depending on its status as a small business (or other qualifiers).

Regardless, set-aside contract transfers must be reported to the contracting officer within 30 days of the M&A deal’s conclusion, or immediately for 8(a) contractors. In addition, signing a novation agreement between the original contract owner, the new owner, and the federal government can help you avoid running afoul of regulations such as the Anti-Assignment Act.

Given all the issues surrounding set-aside contracts and small business status, how should GovTech firms approach and think about these issues during M&A deals? We’ll leave that question for the final post in this three-part series. In the meantime, if you need help, advice, or legal counsel with your upcoming M&A deal, you can also get in touch with our team of experts today.